All home loans require you to pay interest. The higher the prevailing interest rate, the higher your monthly mortgage payment. Lowering the interest rate on your home loan should be a priority. Two of the best ways to do this are interest rate buy-downs and interest rate locks. If you don’t know what those are, here’s a primer.
Interest Rate Buy-Down
It is possible to “buy down” your interest rate. To do this, you pay “points” at closing, lowering the rate by paying a little money up front. Doing so means paying less interest over the life of your loan. You might even qualify for a higher mortgage.
Buy-downs can be structured in different ways, but the most common are 1/0, 2/1 and 3/2/1. For a 1/0 buy-down, your rate drops by 1 percentage point in the first year of the mortgage. In a 2/1 buy-down your rate drops by 2 percentage points during the first year. Finally, 3/2/1 buy-downs are expensive but drop your rate by 3 percentage points the first year, 2 points the second year and 1 point the third year.
Each point is equivalent to 1 percent of the loan amount. Your lender can work with you to figure out how to reduce your interest rate in return for a point. As an example, the lender may offer to reduce your rate by .25 percent in exchange for a point. If your mortgage is $300,000 with an interest rate of 4 percent, paying $3,000 would lower your interest rate to 3.75 percent.
Buyers aren’t the only ones who can take advantage of buy-downs. New homebuilders like those in Sunterra, often offer to pay points to buy down buyers’ mortgages. This month, Long Lake and Perry Homes are offering buy-down incentives in Sunterra.
Interest Rate Lock
Locking your interest rate protects you from market fluctuations. You agree to pay your lender a fee. In return, your lender agrees to honor a specific interest rate for a set period. It’s an insurance policy. If interest rates rise, you won’t have to pay them. Keep in mind that if interest rates drop, you won’t be able to take advantage of them either.
Rate locks are offered by your lender. Some offer them with preapproval, others once you have signed your contract. Know that the lock is only for a set period, usually between 30 and 90 days. If you lock in too early and your closing is delayed, the lock can be voided by the lender. It’s generally best to lock in your rate once you have made an offer on a home.
Rate locks are not free. How much you pay depends on your lender. If you need an extension, you can pay an additional fee, usually 0.375 percent of the loan amount.
A “float-down” lock is sometimes made available by lenders. In this situation, your rate is locked with a proviso that if interest rates drop you can take advantage of the new rate before you close the loan. The fee for this type of lock is usually higher than a basic rate lock.
Rate locks are best used if you think interest rates will rise. If you think they will fall, wait until they fall to a level you are comfortable with, then lock in your rate.
This month, Shea Homes, Empire Communities, Long Lake and Centex will help you lock in your interest rate.
